Volatile period ahead for interest rates and currencies
The volatility of interest rates and international and domestic currencies is set to rise over the next year as the global economy feels the effect of the impending increase in Chinese export prices, according to a leading international economist.
Global economics consultant to Allianz Global Investors Andrew Hunt said: “Over the last couple of months we’ve seen very clear evidence that Chinese export prices are finally rising. Since June and July there has been a significant increase in Chinese export price inflation. We’ve gone from 2 or 3 per cent export price deflation to 6 or 7 per cent annualised rates of export price inflation.”
He predicted this move could have the effect of adding 50 to 100 basis points to the US consumer price index, which in turn would force the Federal Reserve to increase interest rates causing a rather rapid slowing down of the US economy.
Hunt felt this chain of events would have the effect of rapidly slowing the Australian economy as well because the large amounts of capital inflows coming from overseas would quickly start to disappear.
“Australia in 2007 faces two or three major issues. Firstly, if those capital flows do start to disappear, funding the current account deficit will become quite hard. This could lead to some weakness in the Australian dollar next year,” he said.
The Australian economy would then have to deal with a drop in the necessity for banks to lend money due to the dip in offshore fund inflows, and inflationary pressure due to higher import prices stemming from the weaker dollar, according to Hunt.
He said both of these factors would likely mean higher domestic interest rates.
However, Hunt expected the period of higher inflation and higher interest rates would only be fleeting as China moved to boost its levels of exports via a devaluation of its currency.
Hunt said this in effect would reduce global inflation rates leading to a drop in interest rates.
He forecast this dramatic turnaround to occur as early as the back half of 2007.
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